Commentary on "The Real Effects of U.S. Banking Deregulation"

JULY/AUGUST 2003 129 P hil Strahan and various coauthors have written a series of significant papers on the impact of interstate banking and intrastate branching deregulation. His present paper summarizes and extends much of that research.1 I suspect that most economists would agree that draconian restrictions on branch banking or on the ability of bank holding companies to cross state lines make no sense. Geographic restrictions historically left the U.S. banking system vulnerable to regional economic shocks, limited banks’ ability to exploit economies of scale and scope, sheltered weak banks from competition, and imposed costs on the consumers of banking services. Strahan’s work attempts to quantify the impact of the removal of such restrictions on economic growth and entrepreneurial activity at the state level. His estimates are striking—for example, the removal of restrictions on branching appears to have increased the growth rate of state per capita incomes by about one-third, and the effect is persistent. He also estimates a marked increase in the rate of new business incorporations following deregulation, as well as a large decline in the volatility of state-level business cycles after interstate banking was permitted. Economists and economic historians have long debated the effects of a country’s financial system on its economic development. This commentary relates Strahan (2003) to other studies on the effects of geographic restrictions on banks, with a focus on historical comparisons. In addition, I raise some specific questions about Strahan’s empirical analysis in the traditional discussant’s role as devil’s advocate.